Bank organization and screening performance

Hoshi, Takeo

This paper develops a simple model of organization design for a bank by modifying the model by Sah and Stiglitz (1986). Two alternative forms of bank organization are considered. In the "single-layered" organization, each loan candidate is screened only once. In the "double-layered" organization, loans are screened twice and have to be accepted by two independent decision units. It is shown that the single-layered organization originates more loans but its portfolio includes a higher proportion of bad loans compared with the double-layered organization. The profits for a bank with single-layered organization are higher than that with double-layered organization if (a) the quality of initial portfolio is high, (b) the problem of Type I error is serious, (c) the problem of Type II error is small, and/or (d) the screening cost is high. When the bank optimally chooses the intensity of screening, given the organizational structure, the bank with single-layered organization chooses a higher level of efforts to improve the screening skill. The preliminary empirical analysis suggests that the model is consistent with the recent experience in Japanese banking.

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Academic Units
Center on Japanese Economy and Business
Center on Japanese Economy and Business, Graduate School of Business, Columbia University
Center on Japanese Economy and Business Working Papers, 110
Published Here
February 9, 2011